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The major bank stocks such as the Commonwealth Bank, ANZ and Westpac have delivered solid returns in recent years, delivering not just capital gains but also producing strong dividend yields in a low-yield environment.

But in 2014 we saw those gains stall somewhat; an indication the big gains in bank stocks may be over for the time being.

Indeed, we see a benign environment for banks in 2015, with low economic and credit growth plus higher capital requirements crimping profitability. Earnings growth will be moderate and EPS and dividend growth will be below recent years. The ‘X-factor’ that could impact banks and indeed the whole market is an offshore shock to markets.

But despite this there is one major bank that does provide significant value for investors.

No strong returns in 2014

Australia’s major banks have gained a reputation as highly profitable and solid-yielding stocks. In 2012 and 2013 investors seeking both safety and yield pushed their prices higher; profits also grew on the back of strong growth in mortgage lending particularly.

But 2014 was a mixed year for returns; most of the major banks’ share prices finished the year broadly flat or even drifted lower. The exception was the Commonwealth Bank of Australia, which outperformed.

A number of factors have crimped share price gains, including the soft Australian economy and the looming threat of the David Murray-led Financial Services Inquiry, which has called for greater capital requirements for the major banks.

Low economic growth in 2015

When it comes to the Australian economy in 2015, we see a very, very low growth but benign situation for banks. Interest rates are low and so there is no immediate pressure on borrowers from this source.

However, we expect the local economy to grow by only about 2 per cent (in real terms) with unemployment increasing. The question is whether rising unemployment will affect loan and mortgage repayments, as well as increasing growth in arrears and non-performing loans. If it does, we expect it to show up in the second-half of the year.

Few drivers of credit growth

We expect few drivers of credit growth. On the small business lending side, NAB has become more aggressive; but we don’t think there is a lot of support across banks to lend aggressively to small business.

With personal lending, while credit cards are high margin they’re also high risk and the banks are not going to push them aggressively.

Corporate lending should also be relatively muted; world markets have opened up again for big companies to borrow, and it is only really mid-cap stocks that need to use bank funding.

Behind-the-scenes discussions

We also see greater requirements of capital impeding ROE (return on equity) growth. The major banks will have to raise more capital, or retain more capital from profits.

Tightening of credit is not just being driven by Murray. We also think there is ‘covert’ pressure from regulator APRA and the Reserve Bank of Australia in terms of LVRs (loan to value ratios).

There are likely behind-the-scenes discussions with the regulators suggesting the banks should be careful in terms of the extent of mortgage lending and leverage against property. That should slow down the rate of growth of mortgage lending.

The result of a low-growth economy and higher capital requirements is that profits will grow, but at a slower rate than in the recent past. We believe the major banks will grow profits around 3 to 5 per cent.

Higher capital requirements will also hurt dividend payouts. While dividends won’t fall, like profits we think they will grow at a slower rate; around 2 to 3 per cent.

Risks of an external shock

Of course, the big unknown is the chance of an external economic shock that rocks asset markets which in turn destabilizes consumer and business sentiment.

We have already witnessed the sharp slump in oil prices; that reflects economic weakness in Europe; it also significantly increases economic and political risks in oil-producing nations and regions such as Russia, South America and the Middle East.

There is also the risk of a bond default triggering a major correction in developing and emerging world credit markets. That could create a ‘contagion’ effect where the negative shock spirals into other markets and regions as we saw during the Asian crisis.

Perhaps the biggest potential risk is a savage bond market correction, particularly in the “sub-prime bonds” of Europe.

A major market correction could damage domestic sentiment, which could flow through to falling consumer spending, and cut demand for credit and business investments. That would hurt the major banks.

National Australia Bank (NAB)

Looking at the banks individually, NAB is the bank filtering best for yield. It is forecast to pay a fully franked dividend of $2.07 per share in 2015. With its shares trading at $37.87, that translates to a healthy dividend of 5.0 per cent.

NAB’s performance has been hurt by its underperforming legacy assets in the US and UK, which it is exiting. The bank has been offloading its higher-risk loans from its UK Commercial Real Estate (CRE) portfolio; it has also begun the sale of Great Western Bank through an IPO.

Commonwealth Bank of Australia (CBA)

CBA is the highest priced stock among the major banks and the most overvalued. At $90.99 it trades above our current valuation of $85.06, and has a forecast fully franked dividend yield of 4.4 per cent.

CBA’s price reflects the fact it is the most profitable of all the major banks and is one of the best banks in the world on any metric. But that price increases risk, and we believe CBA is entering the peak of its earnings cycle and current performance shouldn’t be extrapolated into the future.

We would like to see a pull back in CBA’s shares by around 10 per cent before we were interested.

Westpac Banking Corporation (WBC)

At $38.14, Westpac is trading at fair value and in line with our current valuation of $33.65. With a forecast fully franked dividend of $1.90, its yield is around 4.9 per cent.

Westpac has a strong domestic franchise, a conservatively underwritten loan book, and via its 60 per cent holding in BT Investment Management, exposure to the upside from the growth in superannuation.

ANZ Banking Group (ANZ)

But we maintain that ANZ provides the best value among the major stocks. At $35.09, ANZ is trading below our value of $36.45 with a forecast yield of 5.0 per cent.

ANZ is successfully rolling out its strategy of developing into a ‘super-regional’ bank, with a growing presence in the Asia Pacific that exposes it to the clearest growth cycle for investors: the expansion of Asia’s middle classes.

That regional diversification helps buffer the bank against domestic risks including the slowing economy and higher capital requirements. But at the same time it is diversifying into Asia, its core Australian and New Zealand operations continue to perform well.

ANZ is also well capitalised and reinvests a higher proportion of earnings than the other banks so grows its intrinsic value faster.

All up, we think the major banks are fair value given their yield. We don’t think there will be significant earnings growth. And they should hold prices unless there is an external shock.